MarketView for October 28

 

 

Summary 

 

It was another relatively uneventful day on Wall Street as share prices ended little changed on Thursday as caution prevailed to the upheaval expected as a result of next week's elections and a likely announcement of more stimulus from the Federal Reserve.

 

Next week could bring significant shifts in both monetary policy and legislative direction, leading investors to largely disregard earnings and economic reports.

 

That is not to say that some stocks exceeded the norm of the day, either up or down. For example, 3M fell 5.9 percent to close at $85.07, while at the same time having a considerably negative effect on the Dow Jones industrial average of which it is a part. 3M had announced that recent acquisitions had increased its cost base and as are result, the company cut its outlook temporarily going forward.

 

A look at key ETFs also made it clear that investors were becoming more cautious, while premiums for November out-of-the-money puts outweighed equally spaced call contracts for most instruments. Overall put volume rose 21.3 percent on Wednesday, while the CBOE Volatility Index .VIX rose for the fourth consecutive session.

 

Microsoft ended the day up 3.1 percent to close at $27.09 in extended-hours trading after the company posted a 51 percent increase in quarterly earnings, announced after the close of regular trading on Thursday.

 

During the session, Halliburton fell 8 percent to $31.68 after a White House panel said the contractor, which cemented the blown-out Macondo well, ignored cement design flaws weeks before the disaster that sparked the country’s worst offshore oil spill.

 

Thursday's session also brought about a weakening in the recent inverse correlation between stocks and the dollar for the second time this week, as stocks slipped while the dollar index .DXY shed 1.1 percent against major currencies. However, share prices did receive an early increase in momentum from the weak dollar after data indicated new weekly claims for unemployment benefits fell unexpectedly, giving an encouraging reading on the labor market.

 

Anticipation of a Fed move has driven recent market action as investors speculated over the size and timing of further stimulus. Equity investors have bet that more easing will invigorate an economic recovery and lift asset prices. Since September, the S&P 500 has clocked an increase of 12.8 percent. The word on the Street is that the Fed will pick up between $80 billion and $100 billion in assets per month as it tries to further increase demand within a struggling economy

 

Unemployment at 3 Month Low

 

New claims for unemployment benefits fell last week to a three-month low, hinting at some improvement in the listless labor market.

 

Initial claims for state unemployment benefits dropped 21,000 to a seasonally adjusted 434,000, the lowest since the week ended July 10, the Labor Department said on Thursday. That was the second straight decline in claims. However, the government did revise the prior week's figure up to 455,000.

 

As to whether there were some abnormalities in the data, a Labor Department official said there was nothing unusual in the state data. The economy's painfully slow recovery from the worst recession since the Great Depression has left the labor market subdued and the unemployment rate at 9.6 percent.

 

While the upbeat report does not change expectations in the financial markets the Federal Reserve will ease monetary policy further next week, it could have an impact on the size of the anticipated bond purchases by the U.S. central bank. The Fed has singled out unemployment and low inflation as key areas of concern.

 

Last week, the four-week average of new jobless claims, considered a better measure of underlying labor market trends, fell 5,500 to 453,250. The number of people still receiving benefits after an initial week of aid dropped 122,000 to 4.36 million in the week ended October 16. That was the lowest reading since the week ended November 22, 2008. The prior week's number was revised up to 4.48 million. The number of people on emergency benefits declined 258,102 to 3.78 million in the week ended October 9.

 

The continuing claims data covered the survey period for the household survey from which the unemployment rate is derived.

 

There Could Be Additional Challenges To The Fed’s Authority

 

The popularity of Tea Party candidates could result in renewed efforts to curtail the power and independence of the Federal Reserve. Ultra conservative candidates have tapped anger at bank bailouts, soaring budget deficits and President Barack Obama's healthcare and regulatory initiatives that could well mean a major shift in the country’s political stance in general and the Congressional effort, heretofore stymied, to oversee the Fed.

 

Tea Party members have lambasted the Fed for its unprecedented and aggressive steps to bolster the economy in the wake of the 2007-2009 financial crises, stating that the moves have exposed a lack of accountability at the Fed and raise the risk of damaging inflation down the road.

 

Efforts to submit the Fed's monetary policy decisions to congressional review or to give Congress say in appointing officials at regional Fed banks could gain fresh momentum if Republicans take control of one or both houses of Congress. Although legislative gridlock is likely to limit how much activists can accomplish, the tone of congressional debate over the Fed could become much more confrontational.

 

With unemployment at high levels and many Americans still feeling the effects of the recession that ended last year, Tea Party supporters have been left wondering how they benefited from the Fed's stabilization of the financial system.

 

The Fed has already faced sharp Congressional criticism over its emergency financial rescues and its regulatory lapses, but it avoided the most draconian proposals to curtail its powers in a revamp of financial rules that Congress approved in July. Its defenders argue the central bank was right to act aggressively to stem the crisis, and they credit it with preventing a financial collapse and deeper economic downturn.

 

But the Fed's use of unorthodox methods, particularly purchases of massive amounts of mortgage-related and government debt have caused uneasiness over its vast powers. Tea Party rhetoric suggests initiatives to clip the Fed's wings have found new champions.

 

Rand Paul, a Kentucky Republican Senate candidate, echoes the views of his father, Texas Representative Ron Paul, who has persistently sought to abolish the Fed and return the United States to a currency backed by gold or silver.

 

"The Federal Reserve, an unelected group of private bankers, is printing trillions of dollars to bail out private industry, purchase government debt, and flood the market with cheap credit," Rand Paul says on his web site.

 

In actuality, the Fed is composed of a seven-member Board of Governors, appointed by the president and subject to Senate confirmation, and 12 regional Fed banks. The Fed bank presidents are appointed by their own nine-member boards of directors, three of whom are bankers -- although the recent regulatory reform bill now bars the bankers from voting for the president. Three are non-bankers selected by bankers and the remaining three are non-bankers named by the Fed board in Washington.

 

Rand Paul does not specifically advocate getting rid of the central bank but says he favors greater transparency and accountability. His father, author of a book titled "End the Fed," could end up chairing a House committee overseeing the central bank if, as expected, Republicans wrest control of the chamber from Democrats.

 

Another Tea Party candidate who has sharply criticized the Fed is Utah Senate contender Mike Lee. Lee defeated 18-year incumbent Senator Robert Bennett in a primary, using Bennett's vote to reappoint Fed Chairman Ben Bernanke to a second term as a rallying cry.

 

"It is time to send a clear message that 'business as usual' is not acceptable, that transparency is mandatory and that everyone is accountable, now and in the future," Lee said in January. He is the firm favorite to win the Utah race.

 

The Fed has strenuously objected to congressional reviews of its monetary policy decisions, arguing financial markets could push up interest rates out of fear politics and not economics would drive policymaking.

 

Whether Tea Party candidate inroads translate to policy audits or not, broader concerns about the U.S. budget deficit and indebtedness may spur politicians to be more critical of the Fed's aggressive bond-buying spree.

 

The Fed has bought $1.7 trillion in securities to spur economic growth in a policy known as quantitative easing, and it is expected to launch a fresh round of bond buying -- dubbed QE2 -- at a November 2-3 meeting.